Will a disability allow me to make an early withdrawal from my annuity without a penalty?

Q. Do I have to pay any penalties or taxes if I'm disabled and make an early withdrawal from my annuity?

A. Annuities are complicated investments and many factors can affect the answer to your question, including your age and the nature of your disability.

When you make an early withdrawal from an annuity, you potentially face three costs: surrender fees imposed by the insurer who issued your annuity, a 10% early-withdrawal penalty by the Internal Revenue Service if you are under age 59 1/2 and the ordinary income tax on earnings.

Surrender charges typically dwindle year by year until they are eliminated. Whether you can avoid them earlier than that because of your disability will depend on the policy, says Paul Lombardo, an insurance actuary with the state of Connecticut's watchdog agency. "Some contracts will waive it; some won't," he says. "There are a ton of variables here."

Many annuities will let you withdraw 10% per year without paying surrender fees, whether or not you are disabled, Lombardo says, so that's one option to consider.

You may be able to get the 10% early-withdrawal penalty waived, depending on the extent of your disability, says John W. Roth, senior tax analyst with CCH Inc. in Chicago.

The IRS allows penalty-free distributions from retirement accounts and annuities if the account holder meets its criteria for being "totally and permanently disabled." That means you must be unable to engage in gainful employment and need assistance with everyday tasks such as feeding or dressing yourself.

Regardless of disability, you will be liable for ordinary income tax on any earnings withdrawn from your annuity. However, Roth points out, if you invested after-tax money in purchasing the contract, you likely can withdraw the principal tax-free. Only the investment gains -- if any -- will be taxed.

Review your contract for the surrender terms and determine whether you meet the IRS' disability standard. IRS publications 575 and 939 offer further information about taxation of pensions and annuities.

"It's a complex area," Roth says, and a mistake would be hard or impossible to undo. "Before doing anything, speak with an accountant or financial planner," he advises.

This is just one of the reasons why we aren't big fans of annuities. They're complex contracts that can be impossible for the typical investor to fully understand or challenge without professional help.